The Mobile-Finance Revolution

How Cell Phones Can Spur Development

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JAKE KENDALL is Senior Program Officer for the Financial Services for the Poor program at the Bill & Melinda Gates Foundation. RODGER VOORHIES is Director of the Financial Services for the Poor program at the Bill & Melinda Gates Foundation.

The roughly 2.5 billion people in the world who live on less than $2 a day are not destined to remain in a state of chronic poverty. Every few years, somewhere between ten and 30 percent of the world’s poorest households manage to escape poverty, typically by finding steady employment or through entrepreneurial activities such as growing a business or improving agricultural harvests. During that same period, however, roughly an equal number of households slip below the poverty line. Health-related emergencies are the most common cause, but there are many more: crop failures, livestock deaths, farming-equipment breakdowns, even wedding expenses.

In many such situations, the most important buffers against crippling setbacks are financial tools such as personal savings, insurance, credit, or cash transfers from family and friends. Yet these are rarely available because most of the world’s poor lack access to even the most basic banking services. Globally, 77 percent of them do not have a savings account; in sub-Saharan Africa, the figure is 85 percent. An even greater number of poor people lack access to formal credit or insurance products. The main problem is not that the poor have nothing to save -- studies show that they do -- but rather that they are not profitable customers, so banks and other service providers do not try to reach them. As a result, poor people usually struggle to stitch together a patchwork of informal, often precarious arrangements to manage their financial lives.

Over the last few decades, microcredit programs -- through which lenders have granted millions of small loans to poor people -- have worked to address the problem. Institutions such as the Grameen Bank, which won the Nobel Peace Prize in 2006, have demonstrated impressive results with new financial arrangements, such as group loans that require weekly payments. Today, the microfinance industry provides loans to roughly 200 million borrowers -- an impressive number to be sure, but only enough to make a dent in the over two billion people who lack access to formal financial services.

Despite its success, the microfinance industry has faced major hurdles. Due to the high overhead costs of administering so many small loans, the interest rates and fees associated with microcredit can be steep, often reaching 100 percent annually. Moreover, a number of rigorous field studies have shown that even when lending programs successfully reach borrowers, there is only a limited increase in entrepreneurial activity -- and no measurable decrease in poverty rates. For years, the development community has promoted a narrative that borrowing and entrepreneurship have lifted large numbers of people out of poverty. But that narrative has not held up.

Two trends, however, indicate great promise for the next generation of financial-inclusion efforts. First, mobile technology has found its way to the developing world and spread at an astonishing pace. According to the World Bank, mobile signals now cover some 90 percent of the world’s poor, and there are, on average, more than 89 cell-phone accounts for every 100 people living in a developing country. That presents an extraordinary opportunity: mobile-based financial tools have the potential to dramatically lower the cost of delivering banking services to the poor.

Second, economists and other researchers have in recent years generated a much richer fact base from rigorous studies to inform future product offerings. Early on, both sides of the debate over the true value of microcredit programs for the poor relied mostly on anecdotal observations and gut instincts. But now, there are hundreds of studies to draw from. The flexible, low-cost models made possible by mobile technology and the evidence base to guide their design have thus created a major opportunity to deliver real value to the poor.

SHOW THEM THE MONEY

Mobile finance offers at least three major advantages over traditional financial models. First, digital transactions are essentially free. In-person services and cash transactions account for the majority of routine banking expenses. But mobile-finance clients keep their money in digital form, and so they can send and receive money often, even with distant counterparties, without creating significant transaction costs for their banks or mobile service providers. Second, mobile communications generate copious amounts of data, which banks and other providers can use to develop more profitable services and even to substitute for traditional credit scores (which can be hard for those without formal records or financial histories to obtain). Third, mobile platforms link banks to clients in real time. This means that banks can instantly relay account information or send reminders and clients can sign up for services quickly on their own.

The potential, in other words, is enormous. The benefits of credit, savings, and insurance are clear, but for most poor households, the simple ability to transfer money can be equally important. For example, a recent Gallup poll conducted in 11 sub-Saharan African countries found that over 50 percent of adults surveyed had made at least one payment to someone far away within the preceding 30 days. Eighty-three percent of them had used cash. Whether they were paying utility bills or sending money to their families, most had sent the money with bus drivers, had asked friends to carry it, or had delivered the payments themselves. The costs were high; moving physical cash, particularly in sub-Saharan Africa, is risky, unreliable, and slow.

Imagine what would happen if the poor had a better option. A recent study in Kenya found that access to a mobile-money product called M-Pesa, which allows clients to store money on their cell phones and send it at the touch of a button, increased the size and efficiency of the networks within which they moved money. That came in handy when poorer participants endured economic shocks spurred by unexpected events, such as a hospitalization or a house fire. Households with access to M-Pesa received more financial support from larger and more distant networks of friends and family. As a result, they were better able to survive hard times, maintaining their regular diets and keeping their children in school.

To consumers, the benefits of M-Pesa are self-evident. Today, according to a study by Kenya’s Financial Sector Deepening Trust, 62 percent of adults in the country have active accounts. And other countries have since launched their own versions of the product. In Tanzania, over 47 percent of households have a family member who has registered. In Uganda, 26 percent of adults are users. The rates of adoption have been extraordinary; by contrast, microlenders rarely get more than ten percent participation in their program areas.

Mobile money is useful for more than just emergency transfers. Regular remittances from family members working in other parts of the country, for example, make up a large share of the incomes of many poor households. A Gallup study in South Asia recently found that 72 percent of remittance-receiving households indicated that the cash transfers were “very important” to their financial situations. Studies of small-business owners show that they make use of mobile payments to improve their efficiency and expand their customer bases.

These technologies could also transform the way people interact with large formal institutions, especially by improving people’s access to government services. A study in Niger by a researcher from Tufts University found that during a drought, allowing people to request emergency government support through their cell phones resulted in better diets for those people, compared with the diets of those who received cash handouts. The researchers concluded that women were more likely than men to control digital transfers (as opposed to cash transfers) and that they were more likely to spend the money on high-quality food.

Governments, meanwhile, stand to gain as much as consumers do. A McKinsey study in India found that the government could save $22 billion each year from digitizing all of its payments. Another study, by the Better Than Cash Alliance, a nonprofit that helps countries adopt electronic payment systems, found that the Mexican government’s shift to digital payments (which began in 1997) trimmed its spending on wages, pensions, and social welfare by 3.3 percent annually, or nearly $1.3 billion.

SAVINGS AND PHONES

In the developed world, bankers have long known that relatively simple nudges can have a big impact on long-term behavior. Banks regularly encourage clients to sign off on automatic contributions to their 401(k) retirement plans, set up automatic deposits into savings accounts from their paychecks, and open special accounts to save for a particular purpose.

Studies in the developing world confirm that, if anything, the poor need such decision aids even more than the rich, owing to the constant pressure they are under to spend their money on immediate needs. And cell phones make nudging easy. For example, a series of studies have shown that when clients receive text messages urging them to make regular savings deposits, they improve their balances over time. More draconian features have also proved effective, such as so-called commitment accounts, which impose financial discipline with large penalty fees.

Many poor people have already demonstrated their interest in financial mechanisms that encourage savings. In Africa, women commonly join groups called rotating savings and credit associations, or ROSCAs, which require them to attend weekly meetings and meet rigid deposit and withdrawal schedules. Studies suggest that in such countries as Cameroon, Gambia, Nigeria, and Togo, roughly half of all adults are members of a ROSCA, and similar group savings schemes are widespread outside Africa, as well. Research shows that members are drawn to the discipline of required regular payments and the social pressure of group meetings.

Mobile-banking applications have the potential to encourage financial discipline in even more effective ways. Seemingly marginal features designed to incentivize financial discipline can do much to set people on the path to financial prosperity. In one experiment, researchers allowed some small-scale farmers in Malawi to have their harvest proceeds directly deposited into commitment accounts. The farmers who were offered this option and chose to participate ended up investing 30 percent more in farm inputs than those who weren’t offered the option, leading to a 22 percent increase in revenues and a 17 percent increase in household consumption after the harvest.

Poor households, not unlike rich ones, are not well served by simple loans in isolation; they need a full suite of financial tools that work in concert to mitigate risk, fund investment, grow savings, and move money. Insurance, for example, can significantly affect how borrowers invest in their businesses. A recent field study in Ghana gave different groups of farmers cash grants to fund investments in farm inputs, crop insurance, or both. The farmers with crop insurance invested more in agricultural inputs, particularly in chemicals, land preparation, and hired labor. And they spent, on average, $266 more on cultivation than did the farmers without insurance. It was not the farmers’ lack of credit, then, that was the greatest barrier to expanding their businesses; it was risk.

Mobile applications allow banks to offer such services to huge numbers of customers in very short order. In November 2012, the Commercial Bank of Africa and the telecommunications firm Safaricom launched a product called M-Shwari, which enables M-Pesa users to open interest-accruing savings accounts and apply for short-term loans through their cell phones. The demand for the product proved overwhelming. By effectively eliminating the time it would have taken for users to sign up or apply in person, M-Shwari added roughly one million accounts in its first three months.

By attracting so many customers and tracking their behavior in real time, mobile platforms generate reams of useful data. People’s calling and transaction patterns can reveal valuable insights about the behavior of certain segments of the client population, demonstrating how variations in income levels, employment status, social connectedness, marital status, creditworthiness, or other attributes shape outcomes. Many studies have already shown how certain product features can affect some groups differently from others. In one Kenyan study, researchers gave clients ATM cards that permitted cash withdrawals at lowered costs and allowed the clients to access their savings accounts after hours and on weekends. The change ended up positively affecting married men and adversely affecting married women, whose husbands could more easily get their hands on the money saved in a joint account. Before the ATM cards, married women could cite the high withdrawal fees or the bank’s limited hours to discourage withdrawals. With the cards, moreover, husbands could get cash from an ATM themselves, whereas withdrawals at the branch office had usually required the wives to go in person during the hours their husbands were at work.

LOCATION, LOCATION, LOCATION

The high cost of basic banking infrastructure may be the biggest barrier to providing financial services to the poor. Banks place ATMs and branch offices almost exclusively in the wealthier, denser (and safer) areas of poor countries. The cost of such infrastructure often dwarfs the potential profits to be made in poorer, more rural areas. In contrast, mobile banking allows customers to carry out transactions in existing shops and even market stalls, creating denser networks of transaction points at a much lower cost.

For clients to fully benefit from mobile financial services, however, access to a physical office that deals in cash remains critical. When researchers studying the M-Pesa program in Kenya cross-referenced the locations of M-Pesa agents and the locations of households in the program, they found that the closer a household was to an M-Pesa kiosk, where cash and customer services were available, the more it benefited from the service. Beyond a certain distance, it becomes infeasible for clients to use a given financial service, no matter how much they need it.

Meanwhile, a number of studies have shown that increasing physical access points to the financial system can help lift local economies. Researchers in India have documented the effects of a regulation requiring banks to open rural branches in exchange for licenses to operate in more profitable urban areas. The data showed significant increases in lending and agricultural output in the areas that received branches due to the program, as well as 4–5 percent reductions in the number of people living in poverty. A similar study in Mexico found that in areas where bank branches were introduced, the number of people who owned informal businesses increased by 7.6 percent. There were also ripple effects: an uptick in employment and a seven percent increase in incomes.

In the right hands, then, access to financial tools can stimulate underserved economies and, at critical times, determine whether a poor household is able to capture an opportunity to move out of poverty or weather an otherwise debilitating financial shock. Thanks to new research, much more is known about what types of features can do the most to improve consumers’ lives. And due to the rapid proliferation of cell phones, it is now possible to deliver such services to more people than ever before. Both of these trends have set the stage for yet further innovations by banks, cell-phone companies, microlenders, and entrepreneurs -- all of whom have a role to play in delivering life-changing financial services to those who need them most.